3/20/05

By Henry K. (Bud) Hebeler

Most comparisons of private retirement accounts with Social Security ignore low income spousal benefits or use fixed payment annuities instead of inflation adjusted annuities. This is like comparing apples and oranges. An inflation adjusted annuity for a single person at normal retirement age is about 40% to 50% more costly than a fixed payment annuity, and an inflation adjusted annuity that will match Social Security benefits for a low income spouse is enormously more costly. And these ignore the tax benefits Social Security enjoys.

Low income spouses are entitled to 50% of the higher income working spouse’s Social Security benefit if the low income spouses do not take the benefits before their full retirement age (65 to 67 depending on the year born). Further, on the death of the working spouse, the survivor gets100% of the working spouse’s benefit even if the low income spouse took payments before the full retirement age. This same benefit also applies to low income divorced spouses who were married at least ten years.

So, what does this mean? Let’s illustrate with an example: Suppose the Social Security benefit for the working spouse, John, was $1,000 a month. If the low income spouse, Jane, waited until her full retirement age of 67 to get her benefit, she would get $500 a month, and John and Jane would get a total of $1,500 a month. When John dies, Jane will get a survivor’s benefit of $1,000 a month even if Jane did not wait till she was 67 to take her benefit. All of these values are in today’s dollar values.

To make an honest comparison with Social Security with a low income spouse, you would have to find an inflation adjusted annuity that paid $1,500 a month with a 67% or $1,000 a month survivor’s benefit. Now let’s compare the annuity costs using data from Vanguard.com. A savvy retiree using a conservative mix of stocks and bonds likely would require an even larger investment to preserve funds for a possible longer-than-average life.

As you can see, it is terribly misleading to compare Social Security which has an inflation adjustment with a fixed payment annuity. It’s much worse if the case is for a non working or low income spouse. The example uses age 67 people. An annuity for a woman or a man with a younger spouse would cost even more.

Looking at this from another angle, suppose that you had $1,000,000 to invest in an annuity. Then a single male could get monthly fixed payments of $7,070. Twenty years later with 3% inflation, this fixed payment would be worth only $3,910. (Single females would get less because they have a higher life expectancy.) On the other hand, an inflation adjusted annuity monthly payment would be $5,000 and would hold its value until death of the single male. However, pity the person married to a low income spouse who would get an inflation adjusted $4,000 while alive and the survivor only $2,680.

Shame on those who say $1,000,000 would be worth $7,070 per month or $84,800 a year without properly qualifying the assumptions and outcomes! For most retirees, $4,000 a month or $48,000 a year would be a better inflation adjusted value to compare with Social Security benefits when a low income spouse is involved.